EMBRAER CASE STUDY : Resources and Competance, Value Chain

Competitors have claimed that Embraer’s competitive advantage is unfair, sustained only
by ongoing direct and indirect government support.while government support was
important in helping the firm evolve into a major player in the regional aircraft market,
such support has also been available to Embraer’s competitors. Embraer’s success must
therefore be attributed to other competitive advantages.

Given its limited resources, especially during the reduction in direct government support,
Embraer’s strategy has been to focus its R&D funds on key technologies that it can
effectively produce in house. It has outsourced the production of components that other
companies can manufacture more efficiently.

Embraer has focused its R&D on the development, systems engineering and integration
of the more than 28,000 parts and components that make up an aircraft. The company has also
retained the development and production of the plane’s fuselage, arguably the most
technically complex part of an airplane. To aid Embraer’s in-house technological
development, the company invited international leaders in the field of aeronautics to
become minority shareholders.

To offset the risk of developing and producing some of the most costly and
technologically challenging components, Embraer has also formed risk-sharing
partnerships. Partners make major components such as wings, flaps and engines, based on
Embraer’s design specifications. These manufacturers are international firms with
headquarters outside of Brazil; however, as Embraer has continued to expand, many of
them have set up operations in Brazil to supply parts in a timely and low-cost manner.
In 2002, C&D Aerospace of the U.S. built a plant in Brazil to supply Embraer with
cabin interiors for its jets. Sonaca, a Belgian company that produces fuselage equipment,
instituted Sobraer in Brazil as a subsidiary solely focused on servicing Embraer. Pilkinton
Aerospace, an American firm, built a plant to supply aircraft windows. And most recently,
in 2004, ENAER, a Chilean firm that supplies the rear fin and other parts, and Gamesa, a
Spanish firm that makes engine parts, have built a plant in Sao Jose dos Campos, where
Embraer is headquartered.6

Subcontractors that receive raw materials and designs from Embraer constitute a third
level of supplier.
According to Embraer’s statistics, 93.4 percent of the firm’s employees are employed in
Brazil, 25 percent as engineers

Embraer is betting that

regional and low-fare airlines will extend their routes, creating competition with the legacy
airlines and a demand for larger regional aircraft. So far, this bet has paid off,

Commonality in the 70- to 110-seat market—An important advantage that Embraer can
use to leverage its first-mover advantage is the commonality design of the new 70- to
110-seat jet family. Commonality is a set of shared parts and interfaces, which allow
airlines to scale maintenance and spare parts inventory across several jet types in the
same family. Commonality also allows airlines to avoid retraining pilots for different
cockpit designs. Bombardier estimates that commonality features in its planes can save
airlines 10 to 15 percent on operating costs. This strength will be especially important in
the more dense markets of Europe, Asia and, eventually, the U.S.
• Lower R&D and production costs—Clearly, Embraer benefited in its early development
from significant government R&D subsidies. Continuing government assistance for
military contracts supports development efforts for commercial jets as well. To a limited
degree, Embraer may enjoy lower R&D costs due to the centralized supply network it
developed over the past decade. Lower labor costs in Brazil helped contribute to
Embraer’s EBITDA margins of 18 to 22 percent, compared to Bombardier’s 5 to 10
percent margins. This competitive advantage will likely dissipate as other governments
continue to subsidize their national aircraft manufacturers and as the Brazilian labor
market develops. In addition, China, with its lower labor costs, could displace the
advantages Brazil currently holds as a manufacturing center. Bombardier could move
production to China and exploit that county’s labor cost advantage. Embraer could also
increase its production capacity in China through its joint venture with Harbin to retain
competitiveness. However, a relocation of Embraer’s production from Brazil to China
would reduce Embraer’s positive externalities to the Brazilian economy.
• Easy access to financing—Finally, Brazil’s weak currency helps Embraer price its jets
very competitively. In addition, generous government export financing terms facilitate
transactions, although this is true for competitors like Bombardier as well. Both
companies secured $1 billion in government equity guarantees for export financing in
the past year, indicating the commitment of both Brazil and Canada to financing their
respective domestic aircraft manufacturing industries.

CHAZEN WEB JOURNAL OF INTERNATIONAL BUSINESS- Columbia Business School

Prof. Moacir de Miranda Oliveira Jr.
FEA – USP, Faculdade de Economia e Administração da USP
The company develops and adapts successful aircraft platforms and
judiciously introduces new technology whenever it creates value by
lowering acquisition price, reducing direct operating costs, or delivering
higher reliability, comfort, and safety.
A Knowledge Based Perspective
• Risk sharing partnerships with some of the world's largest aerospace
manufacturers and suppliers
• 2/3 of financial investments for the development of new products comes
from the international partners
• Focus in the Marketing and Product Development competencies of the
global value chain
EMBRAER’s International Strategy
SYSTEMS Strategic Partnerships
HAMILTON SUNDSTRAND Air Management
Electrical System
PARKER Hydraulics
Flight Controls
Fuel System
C & D Interiors
LIEBHERR Landing Gear
HONEYWELL Avionics
GEAE Propulsion System
GAMESA
Empennage &
Rear Fuselage
LATECOERE
Center Fuselage III
EMBRAER (LEADER)
KAWASAKI
SONACA
Wing Stub, Pylon,
Control Surfaces
HAMILTON
SUNDSTRAND
Tail Cone & APU
GEAE
Engine / Nacelles
EMBRAER
Forward Fuselage
EMBRAER
AKROS
Wing to Fuselage Fairing
LATECOERE
Center Fuselage I EMBRAER
AKROS
Center Fuselage II

Clusters, Industrial Districts and Firms: The Challenge of Globalization (2003)by

Andrea Goldstein, OECD Development Centre, Gilles Le Blanc, Ecole des Mines de Paris

Each of them pivoted around a lead firm: Bombardier in Montreal and Embraer in São José dos
Campos.
Successful entries in the close oligopoly of aircraft manufacturers dominated by
the US and Europe.

Supply Chain:

A dramatic decrease in the degree of vertical integration over the last 30 years.
Lead firms responsible for design and final installation of operating systems (such
as wiring and electronics) …but fabrication of primary parts and assembly of major equipment
are
outsourced to major Tier I partners with a myriad of sub-contractors.
Huge investment (sunk costs), high market uncertainty (cyclical demand), long
lead times, scale and scope economies: oligopoly structure with little vertical
integration.
Key competitiveness factors: labor costs and labor flexibility, government support,
efficiency of the supply chain.

Industrial Cluster - Aerospace

Review of potential agglomeration externalities:
Forward and backward linkages (e.g. suppliers and /or retailers transport
savings)
Labor market pooling
Knowledge spillovers (promotion of innovation)
Application to aircraft production: how to connect local innovation and productions
systems with a global and concentrated industry
Historical examples of Seattle, Toulouse. But less clear cut outcome for
information-based local externalities.
Comparison with the auto industry and the diffusion of modular production models

Main success factor: to identify the growth potential of RJs and to leverage
existing technology and experience (AMX fighter, Brasilia small plane).
Embraer contract with a small number of world first-tier suppliers (Chile, US,
Belgium, Spain) sharing development costs and risks ($ 850m for ERJ170), and
concentrate on design, assembly, and marketing/sales

Local aeronautic SMEs: low capital base and high intensity of skilled labor, very
dependent on Embraer (80% of turnover on average).
However these 50 firms contribute to only 2% of the ERJ 145 final value, while the
350+ foreign partners account for 55% (Bernardes, Pinto, 2002).
Efficient management of global knowledge and production flows was a key
ingredient of the lead firms’ competitiveness.
Crucial role of public policy directed towards the lead firms: direct capital
investment, privatization, export subsidies, R&D programs, fiscal incentives
Both clusters are based on a combination of local assets (skill, well-trained and
comparatively cheap labor force) with the external knowledge acquired by the prime
contractors.
Strong dependency of SMEs. No specific policy articulated for the clusters.
When new programdevelopment does occur, it can become a substantial cash flow burden. The
required investment, even for a relatively modest size 90-100 seat aircraft is more than $2
billion, with estimates of up to $10-15 billion for a large wide body aircraft. With such large
sums of money at risk, major aircraft manufacturers have sought to shift as much of the
development risk to others as possible.

A rule of thumb is that about one third of the cost of developing a new aircraft will
be supplied each by the OEM, suppliers, and governments (direct support and through
indirect means such as tax incentives).The global aerospace and defense market reached a value
of $1,275.5 billion in 2005. Aruvian Research: Analyzing the Global Aerospace and Defense
Industry.

Most of Embraer’s aeronautical engineers is from ITA. Aeronautical Technological Institute, one
of the world’s leading aeronautical engineering schools, run by the Federal Govt.

Several reasons motivated Embraer to manufacture 70- to 120-seat planes. First, Embraer
identified a gap between capacity and demand for this range of planes. The absence of a true 70-
to 120-seat jet family had forced airlines to deploy planes that were either too large or too small
to operate efficiently in the intermediate-demand market. In 2002, 61% of flights in the United
States departed the airport with loads appropriate for 70- to 110-seat aircraft.

By Darden – University Of Virginia EMBRAER: SHAKING THE AIRCRAFT

MANUFACTURING MARKET, 2008.

The ERJ-145 is lighter, cheaper to buy, and 15% less expensive to operate than its main rival,
Bombardier’s CRJ-200.
Although it buys roughly half of its inputs abroad,making it the country’s second largest
importer,
Several European and American aerospace component suppliers chipped in as risk-sharing
partners for the ERJ-145, directly investing R$ 64 million (of a total equal to R$ 592.7 million,
roughly US$ 300 million)
in cash and materials and providing liquidity via deferred payment provisions.

FAPESP- The State of São Paulo Research Foundation jointly fund key technological innovation.
SMEs- Partnerships. While Embraer has not taken equity positions, some such firms were
createdin the mid-1990s by skilled technicians laid off by Embraer and other aerospace
companies.

In November 1999, Aérospatiale-Matra, Dassault Aviation and Thomson-CSF each acquired a

5.5% stake in Embraer, and Snecma bought a further 3%, infused US$ 1 billion.
The need to limit the degree of vertical integration was recognized early on as a key imperative,
in order to avoid the risk of excessive fragmentation of business operations that had doomed
previous attempts at manufacturing aircraft in Brazil (Silva, 1998, p. 177).8 For the most part,
Embraer shied away from manufacturing high-value, high-technology components and
concentrated instead on designing the
aircraft, producing fuselages, and assembling the final product.
Embraer : From National Champion to Glabl Player . Andrea Goldstein OECD Development
Centre, Paris.

Core- Competance:

Relationship between Companies and Innovation and Learning Mechanisms

The knowledge networks come from this level,

where two important things occur: (a) a creative and integrated combination of R&D know-how
and know-why; (b) the creation of competencies to innovate the product and the learning-by-
interacting process. This phase was characterised by the project’s separation into its component
parts and by the distribution of tasks among the companies, followed by the definition of the
airplane’s parameters between Embraer and the partners. The innovation of the ERJ-179/190
program resulted from a philosophy called “Collaborative Engineering Connected to Global
Sites”, that is, an R&D network formed by labs and plants of the several international partners,
centralised and coordinated by Embraer, in Brazil.

Roberto Bernardes • Fundação SEADE, Passive innovation system and local learning.

The reasons that led the company to take this strategic decision of making risk sharing
partnerships are several:

• Concentration of the activities in core competencies;

• Need to reduce development time of its aircraft through shorter R&D cycles;

Market opportunities achieved by means of having partners in different countries.

As such, with its excellence in design, integration capability and high aircraft technology,
Embraer was able to attract partners on the global market who would take a stake in and invest in
its projects. As for risk sharing partners, technology transfer by means of participation in the
project represented a major advantage.

Capability for Integration

Physical and simultaneous integration of various multidisciplinary and multicultural teams was
decisive in some phases of the project, especially in the Joint Definition Phase. Embraer was able
to coordinate the development process and establish a sequence of activities to save project time.
Many of these complex development activities were performed in parallel. Usage of modern
Information Technology tools such as extranet communication, computer aided design and
manufacturing (CAD-CAM), Virtual Reality Center and electronic mock-up were crucial to
assure integration of the project teams.

2. Mastering of key technologies

The fact that Embraer was able to establish the project’s basic technical prerequisites permitted
its autonomy as leader and enabled the choice of eventual partners. Concentration in core
competences of design, materials engineering, system integration, project management and
supply of technical support to clients ensures independence of the company’s decisions and
results in a sustainable competitive advantage.

3. Capability as a negotiator

The company was successful in making partnership contracts beneficial for both parties, in
terms of participation in the projects, investments, budgets for the activities of each partner,
clauses related to terms to be met, quality and adjustment requirements to the technical

4. Post-sale partnership services

Embraer’s partners also participate in client services, in the supply of replacement parts and
services and even in training offered to clients. In a verticalized production process, this type of
activity may be offered only by the manufacturer, however in a shared design and manufacture
process it is important that partner companies be available, as they master specific technologies
that the manufacturer does not. For Embraer the most significant learning during the ERJ-145
project was management of contracts between companies, not advantages related to technologies
it did not have. Another thing learned was how to achieve cost reduction of the subcontracted
production processes. With the deverticalization process of production and balancing of its
production plants, Embraer created conditions to reduce the price of its products. The strategy
that oriented the partnership program definitely is focused on costs and financial engineering.
All this learning process led to an even more intense focus on the ERJ-170/190 program.
Strategic partnerships were more integrated and complex. The project was carried out in co-
design with partner companies. Another significant aspect that must be taken into account, the
technical requisites of the new partners were determined prior to beginning of the aircraft
project, something that did not happen with the ERJ-145 project. Partnerships were made with
large multinational companies, which made the aggregation of markets and distribution of
development costs easier, thereby minimizing capital investments, enabling acquisition of
business know-how and commercial and logistics infrastructure. To summarize, the major
acquisitions in knowledge were:
• Development process integrated with information systems and networks interconnecting
clients, suppliers and partners;

• Ability to integrate project teams from various countries in a shared physical environment and
later, in a separate environment;

• Faster development of complex products, with shorter cycles;

• Experience in the offering of post-sales services together with other partners;

• Ability to negotiate strategic partnership contracts with other companies in the market;

• Integration and products sales and services on global level, increasing the opportunity to
internationalize business/markets.
RISK SHARING PARTNERSHIPS WITH SUPPLIERS: THE CASE OF EMBRAER by Paulo
Figueiredo1, Gutenberg Silveira2 & Roberto Sbragia3*
*University of Sao Paulo. Journal Of Technology Management and Innovation 2003.

Productivity more than doubled in the years

from 1995 to 1997, rising from US$84,000 per
employee to US$180,000 with a figure of
US$ 250,000 forecast for 1998. Production leadtime
also showed significant improvement,
falling from 12 months in 1995 to only six
months in 1998